In August 2022, President Biden signed the Inflation Reduction Act of 2022, H.R. 5376. The legislation includes components of the former Build Back Better Act and addresses energy, health, and targeted tax policies aimed at fighting inflation, increasing domestic energy production, and reducing US carbon emissions by 40 percent by the year 2030.
To meet the aggressive energy conservation and climate-focused goals laid out in the IRA, two existing energy efficiency tax incentives, 45L Energy Efficient Tax Credits and 179D Energy Efficient Commercial Buildings were either expanded or extended to motivate the US construction industry to take advantage of significant tax credits and tax deductions offered for new building construction or for renovation of existing property.
Changes to 45L Energy Efficient Tax Credits
The 45L Energy Efficient Home Credit, which officially expired in at the end of 2021 before the IRA was signed into law (August 2022), provides single-family and multi-family homebuilders with a $2,000 per unit tax credit for meeting certain energy savings requirements. The IRA provisions extend the 45L tax credit for homes sold or leased during 2022 with few modifications to the existing provisions, so residences sold or leased in 2022 qualify for the 45L credit using the 2021 energy efficiency standards. However, from January 1, 2023, through December 31, 2032, the IRA significantly changes the 45L Energy Efficient Home Credit with new provisions and requirements (see chart below):
|Home Type||Qual. Requirement||Wage Requirement||Credit Amt.|
- Single-family and manufactured home tax credit amounts are increased to $2,500 per unit when constructed according to standards set by the ENERGY STAR Residential New Construction Program or the Manufactured Homes Program.
- Single-family and manufactured home tax credit amounts are increased to $5,000 per unit when they are certified as zero energy ready under the Department of Energy’s Zero Energy Ready Home (ZERH).
- Multi-family tax credit amounts are reduced to $500 per unit when certified under the EnergyStar requirements (reduced to $1,000 per unit when meeting zero energy requirements). However, if prevailing wage requirements are satisfied, the tax credit increases to $2,500 per unit when certified under the EnergyStar requirements (increases to $5,000 per unit when meeting zero energy requirements).
- Both the EnergyStar and the DOE Zero Energy Ready Home standards do not have any story limitations, so the previous restriction of three stories above grade or less in height no longer applies.
Changes to 179D Energy Efficient Commercial Building Deductions
The 179D Energy Efficient Commercial Building Deduction provides a deduction of up to $1.88 per sq. ft. for building owners who construct new property or renovate existing energy efficient buildings or developers of government-owned buildings. The Inflation Reduction Act of 2022 recently signed into law (August 2022) significantly changes the 179D deduction, but the current provisions will remain the same through December 31, 2022. The new rules will go into effect for property placed in service January 1, 2023. See key updates to 179D under the IRA below:
- The IRA lowers the minimum required savings in total annual energy and power cost from a 50% reduction to a 25% reduction. The energy and power costs are now compared to the ASHRAE Reference Standard 90.1 that was in effect for (4) years prior to the in-service date of the building.
- The IRA removes the existing rules for partial certifications (currently $0.60 per sq. ft. for each lighting, HVAC, and building envelope).
- The IRA provides higher 179D Deductions for meeting higher prevailing wage and apprenticeship requirements. If these thresholds are met, and the building achieves a 25% reduction in energy and power costs, the deduction is $2.50 per sq. ft. If energy and power costs are reduced further, the deduction increases by $0.10 for each additional percentage of reduction up to $5.00 per sq. ft.
- If the prevailing wage and apprenticeship requirements are not met, the 179D Deduction is $0.50 per sq. ft. for a 25% reduction. Further reductions increase the deduction by $0.02 per sq. ft., up to $1.00 per sq. ft.
- The IRA removes the lifetime limit defined in the previous provisions. The 179D Deduction can be taken every three tax years (four in certain situations).
- Previously, only public agencies were allowed to allocate the 179D Deduction.
The IRA expands allocations to all tax-exempt entities, including charitable organizations, religious institutions, private schools or colleges; private hospitals, museums, tribal governments, and other organizations falling under IRC 501(c).
- The IRA established a new retrofit program as an election for a new alternative deduction for energy efficient building retrofits, which is taken in the qualifying final certification year. The alternative deduction requires a qualified retrofit plan and is focused on energy use intensity rather than total annual energy and power costs. The alternative deduction cannot exceed the aggregate adjusted basis of retrofit property placed in service.
Whether you are a real estate owner/investor who has previously taken advantage of the 45L and 179D energy efficiency tax incentives as part of your building projects or you are just learning about their substantial benefits, it is important to understand how to fully maximize the new provisions. Please contact one of our CSH tax experts for more information related to tax planning around your specific business needs.